The Grave Evil of Unemployment

Free-market economists rarely declare, "We have to do X about unemployment." Why not? Free-market economists' standard reply is just, "We expect X to fail." Their critics, however, have a less favorable explanation: Free-market economists oppose X because free-market economists are cavalier and callous. They cavalierly deny the reality of involuntary unemployment, and callously belittle the suffering of the unemployed.

I know hundreds of free-market economists. They're friends of mine. Indeed, I'm a free-market economist myself. It saddens me to say, then, that our critics are often right. While some free-market economists merely doubt the efficacy of policies intended to alleviate unemployment, the average free-market economist doesn't take the unemployment problem seriously.

Why not? At the level of high theory, free-market economists love market-clearing models. If there's surplus wheat, the price of wheat will fall to clear the market. If there's surplus labor, similarly, the wage will fall to eliminate unemployment. What about nominal wage rigidity? Most free-market economists concede that nominal wage rigidity exists to some degree, but think the problem is mild and short-lived: "It's been three years. The labor market must have fully adjusted by now."

High theory aside, though, free-market economists have a toolbox of quips they use to belittle the problem of unemployment.

There's the argument from the safety net: "Why would anyone want to go back to work when he can collect 99 weeks of unemployment insurance?"

There's the argument from relocation: "There are plenty of jobs in North Dakota. Anyone who refuses to move there is therefore voluntarily unemployed."

There's the argument from worker hubris: "If he's an 'unemployed carpenter,' then I'm an 'unemployed astronaut.'"

There's the argument from Zero Marginal Product: "If the guy can't find a job, his labor must be worthless."

I'd be delighted if my fellow free-market economists' high theory and belittling quips were entirely correct. But they aren't. The high theory's wrong: Nominal wage rigidity is both strong and durable. And the quips are far less insightful than they sound. Yes, unemployment insurance discourages job search; but this hardly means that most unemployed people affirmatively prefer the dole to a job. Yes, the unemployed could move to North Dakota; but in a market-clearing model of the labor market, workers wouldn't have to flee their state to sell their skills. Yes, some workers overestimate their own abilities; but the typical unemployed carpenter is competent in his craft. Yes, many workers have low marginal products; but almost no one has a marginal product of zero.

Once you admit the severity and durability of nominal rigidities, it's hard to avoid the conclusion that much unemployment is involuntary. And once you admit that much unemployment is involuntary, it's hard to avoid the conclusion that unemployment is a serious problem. In terms of standard cost-benefit analysis, nominal rigidities have the same effects as price floors. Society loses the difference between each involuntarily unemployed worker's marginal product and his reservation wage.

Yet on further reflection, simple cost-benefit analysis grossly understates the horrors of unemployment. We should also consider the effect of unemployment on happiness. When workers don't get a raise, they're often disappointed or angry. But when workers lose their jobs, they literally weep. For most of us, a job isn't only a paycheck. A job also provides a sense of identity, purpose, and community. Happiness research strongly supports this fact, but introspection should suffice. Think about the shame and despair you'd feel if you were suddenly unable to support your children.

Free-market economists should be especially dismayed by the cultural and political effects of unemployment. When every able-bodied worker can easily find a place to sell his skills, the economy reveals a clear connection between moral desert and
practical success. You can fairly dismiss many complaints about capitalism by
harumphing, "Get a job!" Workers can proudly tell statist activists and intellectuals, "I don't need your charity. I can take care of myself just fine." Once people lose their confidence that every able-bodied person can easily take care of himself, this individualist ethos withers - and the welfare state grows like a weed.

Instead of downplaying the grave evil of unemployment, we free-market economists should urge governments to redouble their efforts to fight it. How can we do so and remain free-market economists? First and foremost, by emphasizing the obvious: Every government imposes a vast array of employment-destroying regulations. Minimum wages. Licensing laws. Pro-union laws. Mandated benefits - especiallymandated health insurance. Anyone who appreciates the grave evil of unemployment should bitterly oppose these regulations - and vigorously reject the cavalier, callous view that a heavy-duty safety net is a good substitute for a job. Government regulation is hardly the sole cause of nominal wage rigidity, but it definitely makes a bad situation worse.

At this point, good Keynesians will object, "Asking government to stop exacerbating nominal wage rigidity is a fine start. But what about old-fashioned Aggregate Demand policies?" There's no reason for free-market economists to fear this question. Tax cuts - especially tax cuts on employers - increase Aggregate Demand and employment, and they're as free-market as Frederic Bastiat.

Isn't monetary policy is a far more effective and sustainable way to boost Aggregate Demand? Sure. Given the existence of a central bank, though, it's hard to see why free-market economists should run away from this conclusion. How is Nominal GDP targeting any less free-market than constant growth in M2, or a frozen monetary base, or short-run interest-rate targeting? If, as seems highly likely, Scott Sumner is right to blame the Great Recession on central banks' tight monetary policies, free-market economists should not be afraid to honor him. Imagine how much statist legislation could have been averted if the world's central banks had kept NGDP on a steady course from 2008 to the present.

I'm proud to call myself a free-market economist. But free-market economics can and should improve. Our cavalier and callous attitudes about unemployment are deeply misguided. Free-market economists should eagerly share their insights on how to alleviate the grave evil of unemployment instead of putting their heads in the sand and calling idle misery "optimal."

What if unemployment at the moment isn't caused by nominal wage rigidity, but is instead caused by the fact that we can now produce everything necessary to supply everyone with their basic needs with an increasingly small share of the labor force?

The traditional answer to this is that the unemployed labor needs to be reallocated to producing something else. In other words, we have skills mismatch. Plus maybe the Great Stagnation. Is there some new field of endeavor out there ready to suck up excess labor? We seem to be at a point where there isn't. Is that caused by regulation, or have we just run out of problems that are easily solved, at least for the moment?

@Effem, Bryan is making a concession to market monetarists, not the Ye Olde monetarists who trust the government to target interest rates. Market monetarists like Scott Sumner DON'T trust the government to set the price of money. They are in direct opposition to targeting interest rates, inflation, or unemployment. Instead they want to target NGDP and nothing more. That's their view and that's the view that Bryan is saying is at least not worse than the status quo from a free market perspective. Furthermore that view relies on an NGDP futures market (not the government) to determine the price of money. See here: http://www.themoneyillusion.com/?p=1184

First and foremost, by emphasizing the obvious: Every government imposes a vast array of employment-destroying regulations. Minimum wages. Licensing laws. Pro-union laws. Mandated benefits - especially mandated health insurance. Anyone who appreciates the grave evil of unemployment should bitterly oppose these regulations - and vigorously reject the cavalier, callous view that a heavy-duty safety net is a good substitute for a job.

Have you ever been on unemployment? It's not a panacea, and it's certainly not a substitute for a good-paying job. Mandated health insurance? That's because companies want it!! If we had Medicare-for-all, people would drop crappy jobs right quick.

"Most free-market economists concede that nominal wage rigidity exists to some degree, but think the problem is mild and short-lived: "It's been three years. The labor market must have fully adjusted by now."

It has been three years of supposedly normal inflation - but in reality inflation at levels so high that in the past such levels have created unemployment. So of course the labor market has fully adjusted by now. Real wages have fallen a lot, continue to fall, and will continue to fall indefinitely for as long as current policies continue.

Surely events have proven the Keynesian model broken.

And every time Keynesianism fails, the politically correct answer is to double down on Keynesianism, the latest doubling down being NGDP targeting in Japan. So far they are getting inflation, stagnant wages, and no rise in employment, the worst of all possible worlds.

As government grows, in regulation, spending, and crony capitalism, we must eventually get a regime where supply side factors completely dominate demand side factors, where demand side factors are insignificant. Clearly we are now in that regime.

"Stimulus" is always government spending, which decreases employment. "Austerity" is always higher taxes, which increase unemployment. And every economic crisis provokes an ever larger torrent of regulation and crony capitalism, leading directly to the next crisis.

Hence the outcome in Japan of determined efforts to manufacture inflation.

You generalise. I don't think that free market economists (at least, not the ones I know) are cavalier or callous.

My answer would have been straight: make it really easy for people to get jobs (i.e. cut taxes and de-regulate), and reduce their incentives to stay on welfare.

Longer term, make sure that people can move about (e.g. house buying taxes should be nil, not 3-5% the value of properties as in, say, the UK) and make sure that schools are as good as possible. Ideally implemented by vouchers and free market, too.

I would add that all the regulations which make it harder to start small businesses, or to support oneself through informal work-- freelancing, piecework, even subsistence labor for some people in some places-- add to the problem. Self-employment is an underrated kind of employment, and if someone's only option is to go work for one of several established companies, we should ask why.

Add to all of the regulations the "fog of fear" that surrounds them. There are so many, with so many nasty sounding penalties attached, that *fear of the regulations* may be as bad or worse then the regulations themselves.

And so, forcing all of the regulations to fit into a "safe harbor" list that fits on 3 or 4 pages might help quite a lot. But since they come from various levels of government, are not laid out in a single organized way, etc., they naturally create fear/uncertainty/doubt. And so they raise the "reservation need" of an employer.

"Instead of downplaying the grave evil of unemployment, we free-market economists should urge governments to redouble their efforts to fight it. How can we do so and remain free-market economists? First and foremost, by emphasizing the obvious: Every government imposes a vast array of employment-destroying regulations. Minimum wages. Licensing laws. Pro-union laws. Mandated benefits - especially mandated health insurance. Anyone who appreciates the grave evil of unemployment should bitterly oppose these regulations - and vigorously reject the cavalier, callous view that a heavy-duty safety net is a good substitute for a job. Government regulation is hardly the sole cause of nominal wage rigidity, but it definitely makes a bad situation worse."
These causes for unemployment however overlook that the current major cause of unemployment is that there was a financial crisis, confidence plummeted and people stopped spending, these supply-side issues you highlight would barely make a dent in the current rate.

It has been three years of supposedly normal inflation - but in reality inflation at levels so high that in the past such levels have created unemployment. So of course the labor market has fully adjusted by now. Real wages have fallen a lot, continue to fall, and will continue to fall indefinitely for as long as current policies continue.

I vote it is one of the worst posts, though I agree with the badness of unemployment (condescending as Caplan is to other free market economists) and the general idea that the government goes out of its way to create rigidities. Caplan might also question how constant inflation works to reinforce people's insistence on maintaining their nominal wages.

I feel bad, because I'vs read his blog for years, but Tyler Cowen's ZMP theory struck me as very callous. Unemployed? Well you must not be worth anything.

But, callousness or not, free market economists have certainly not been shouting from the rooftops for policies to increase AD. And many times, that's NOT due to callousness but due to a basic misunderstanding of how nominal wage rigidity works. I just saw Cowen post a tweet today basically implying one of the main causes of unemployment is the unemployed not accepting lower salaries.

In reality, the issue is economies of scale for virtually every industry out there. Some fields may have only a few firms and others may have hundreds. With no economies of scale, there is no purpose to the firm other than overhead and each worker charges the market and Say's Law applies. With economies of scale, the manager of any firm faces a choice when the firm's revenue drops. Either cut employees or cut wages.

If all employers cut wages, then the employer would also need to cut wages to stay in business. However, all employers cutting employees instead of wages is a Nash equilibrium if each firm's manager is worse off with being the only firm to cut wages. Notice I didn't say worse off monetarily. The real-world utility function of the manager is far less for telling workers their wage is being cut. Also, for the manager to profit monetarily from cutting wages, the profit would have to come from increasing market share by undercutting those firms who did not cut wages, which means hiring and expanding the business at the same time wages of existing employees are being cut. With all its frictional costs, buying labor and trying to undercut the market isn't like some arbitrage in the oil markets. Potential for profit in cutting wages is very dicy to nonexistant.

This Nash equilibrium is very strong even in a market of hundreds of firms, even though the potential profits should be greater when a firm could capture more market share. Since equilibrium is strong, a market drop as a whole translates to an equivalent employment drop. If revenues remain constant and no employee leaves the market, it doesn't matter if the unemployed worker is willing to work for much less than current employees. The currently employed have work or else they would have been laid off. The firm would need to lay off an employee who currently has enough work to make them profitable. That doesn't happen, and instead only attrition in the labor market allows new workers into the labor force. These workers may work for much less or they may be paid the same, depending on the taste of the employer, but either kind of job will have far more candidates than openings.

Perhaps free market econmists have difficulty understanding this approach because it requires "irrational" behaviors on the part of firms rather than employees. They can see human beings being irrational and expecting higher-than-market wages, but there's no way the firm is the source of responsiblity. Firms are dispassionate profit-maximizers who have been weeded out in a Darwinian process of Creative Destruction. But such Darwinian processes only ensure some sort of Nash equilibrium, and equilibrium does not necessarily mean market-clearing. If multiple equilibria are available and we're at one far worse than another equilibrium, then coordination is necessary and coordination may only be achieved through some sort of government action.

I often feel that libertarians let the the perfect (but not actually perfect) be the enemy of the good. They scream about loosening monetary policy during deep recessions, but don't realize that by doing so, they are giving far more statist actions greater legitimacy and leases on life. The Great Depression in Europe is a case in point. Rigid adherence to the interwar gold standard condemned many, many people to unemployment and led to a loss of faith in liberalism (in the 19th century sense) and led to the increase in popularity of collectivist politics in both it fascist/corporatist and communist variants (though, of course, the fascists were ultimately the more successful in Western Europe). Private property, individualism, civil liberties, freedom of contract, and avoidance of corporatist government-business incest are much more important than any atavistic obsession with money being too loose. But, Brunig et al. in Europe apparently didn't see it that way, and so we got Hitler et al. About the central-banks-and-price-of-money- issue (actually quantity in this case), I have to say that perhaps if we had competing monies, things would work right like others are implicitly suggesting. I don't really think that is true, but in any case, that change is not going to happen now and so NGDP targeting is a very good rule. It isn't discretion, it's stabilizing, and it's compatible with long-term growth. Most importantly though, it helps protect the important things I mentioned from statist attack.

But they have a really huge problem with the view that comes from people who now, today, in 2013, think of themselves as old school, hard money monetarists, who ALSO think of themselves as Friedma's intellectual heirs. People who think that rock-bottom interest rates are a tell-tale sign of extremely loose monetary policy, that market monetarism is an untested fad, and that interest rate targeting is sufficient.

A good analogy to how MM-ists think of 'latter-day old monetarists' is to think about how Jesus might have thought of the Pharisees -- they are at the very center of the ideology, but they are not well-representing it. They have forgotten Moses, forgotten Friedman, created false idols out of fear of inflation, and become mere money-changers.

(Sorry if that's too harsh a description of how MM-ists think of self-described old monetarists/hard money advocates)

Just the other day Bryan was telling us how many systems are founded on the expectations of their members. For example democracy works only when nearly everyone expects the losing party to voluntarily give up power.

Nominal wage rigidity is just one very simple example of this. Nominal wage rigidity exists because nearly everyone expects their nominal wage to monotonically rise throughout their life.

Yet only people who were raised in a culture based on perpetual inflation and monetary expansion would hold this expectation. The man on the street knows that if the dollars in his paycheck stay the same, then in reality he's moving backwards. And he responds by by exercising downward rigidity, zero being a nice anchoring number for "unacceptable annual raise"

Imagine a populace and culture that existed in a stable monetary gold/bitcoin world. Monetary expansion would be far below productivity growth, so nearly all periods would consist of deflation. In such a world workers would have no expectation of rising wages. In fact absent population growth, mean nominal wages would always grow by exactly 0% a year (and with population growth it'd be sub-zero). About half of workers would have falling nominal wages in any given year, but still have rising living standards. Cutting salaries wouldn't be a morale-destorying unthinkable, but a very normal process. Layoffs would be unnecessary.

Workers would have no problem with this. Unlike today where people expect rising living standards to come from larger nominal paychecks, in a bitcoin world people would expect rising living standards to come from falling prices on consumer goods. Salaries move up or down depending on their success (much as they do today for high-level executives), but it's cushioned by ever-increasing purchasing power. Labor markets would be vastly more flexible.

In this case workers would have no downward rigidity. Every worker today knows that if his wage doesn't grow he's moving backwards. But a worker in a bitcoin world would only move backwards if his nominal wage fell faster than consumer prices. There's no round anchoring number like zero, in fact there's no measurable single number since everyone's consumption basket is different. Hence no downward rigidity to be caused by behavioral bias.

The necessity of fiat money is only to solve a problem, nominal wage rigidity, that is created by the culture of fiat money in the first place. We don't need state-run soft money. After the initial pain of the transition, when nominal rigidity expectations still linger, a hard money economy would be less prone to persistent high unemployment.

"How is Nominal GDP targeting any less free-market than ... a frozen monetary base"

Because you need to arbitrarily pick a growth target. Who's to say what the "right" level of nominal growth is?

Nominal GDP is an estimate that can be manipulated by bureaucrats. The monetary base is a known quantity.

A reliable transmission mechanism from monetary policy to Nominal GDP has not been demonstrated, or even modeled. Any attempt to boost NGDP by injecting larger amounts of money may distort the market in favor of the monetary injection points, and is therefore potentially damaging to the free market.

There are various theories behind different targets, but it's more important that there is a clearly announced target that constrains the central bank.

The monetary base is not a precisely known quantity in a world where counterfeiting is possible. If you mean that we have a general idea what the monetary base is, then that's true, but the same is true of NGDP.

"Any attempt to boost NGDP by injecting larger amounts of money may distort the market in favor of the monetary injection points, and is therefore potentially damaging to the free market."

It's interesting how you only focus on the distorting effects of monetary injection. Anyway, any effective government intervention will affect what would otherwise be the outcome of the spontaneous order, including nationalising and freezing the monetary base.

Great post. Will second others that say this is the best one ever here.

I thought the only free-market economists who believe unemployment is voluntary are the RBC types (which Tyler Cowen seems to sort of favor, given the "Transmissions" chapter in his principles book). As I see it, this is merely a major flaw of the model and not supposed to be a reflection of how they think the world actually works. If they do think this way, they are more out of touch than I thought (people really shouldn't go straight into grad school from undergrad). But I've never heard Austrians or Monetarists talk about unemployment being voluntary.

Of course, as Bryan points out, they don't seem to talk about it very much at all, really. Kudos to him to calling them out!

Interesting posit, although there is a lack of correlation between tax rates and GDP growth when viewed over the last 40 years given, with the exception of 1988-1992, US marginal tax rates have been at their lowest since 2003.

How can we do so and remain free-market economists? First and foremost, by emphasizing the obvious: Every government imposes a vast array of employment-destroying regulations. Minimum wages. Licensing laws. Pro-union laws. Mandated benefits - especially mandated health insurance. Anyone who appreciates the grave evil of unemployment should bitterly oppose these regulations - and vigorously reject the cavalier, callous view that a heavy-duty safety net is a good substitute for a job. Government regulation is hardly the sole cause of nominal wage rigidity, but it definitely makes a bad situation worse.

The unemployment caused by licensing, unions, etc. is the structural unemployment that's always there, in "good" times and bad, and that we've more or less decided to just live with through our democratic process. Mandated benefits and minimum wages are partly this too, though their effect is exacerbated by recessions. As policy targets for lowering unemployment during a terrible time like we have now, they seem to have very low "bang for the buck" in terms of how much you can lower unemployment per unit of political pain caused by upsetting our current political equilibrium on these issues. Furthermore, several of these reforms have both positive supply side effects and negative demand side effects (e.g. eliminating the minimum wage), so they seem particularly unsuited to be targets during a big "downward nominal ridgitidy" unemployment episode. The alternatives (central bank policy, cutting taxes to stimulate demand, and perhaps moving infrastructure spending from the future to the present where possible) address the problem more directly, don't violate cultural truces to the same extent, and address what's actually different during cyclical downturns (the unemployment we haven't decided just to live with in our long-standing political fights.

Is anyone else absolutely terrified by the recent labor economics posts here or am I the only liberal arts major graduating in a couple of weeks? At school and on career websites, I hear that it takes three to nine months to find a job while on EconLog and Marginal Revolution, I get the impression that a person unemployed for over six months is up creek without a paddle.

What does an economist say to a student who is nearing this great evil?

"The monetary base is not a precisely known quantity in a world where counterfeiting is possible. If you mean that we have a general idea what the monetary base is, then that's true, but the same is true of NGDP."

I am saying that we can know the monetary base more accurately than we can know NGDP. Do you disagree?

"It's interesting how you only focus on the distorting effects of monetary injection. Anyway, any effective government intervention will affect what would otherwise be the outcome of the spontaneous order, including nationalising and freezing the monetary base."

Of course. It's a question of degree. I am saying that there are methods that would distort far less than just pumping money in until NGDP grows at a certain level.

Chris E - I was just thinking (inspired by Hugh's comment on fruit pickers, actually) that I would like to offer emplyoment as my live-in maid/childminder. The successful applicant will have a BA and will receive on-site room and board, 3 meals per day, alternate Sunday's off and £1/10 per month (£2/10 if you also cook), paid quarterly.

Erin L - I think you get a bit of a pass coming right out of school. Nobody fired you or laid you off, so it's not seen as the same sort of "gap" in employment. Do not panic and accept the job offer above, or god forbid apply to law school or something.

@Erin L: The job situation for recent graduates isn't good. (It is better than for those without a college degree, though.) Graduating in bad economic times depresses graduates' wages across their careers. But if you're a college graduate reading economics blogs (and you are mobile, childless, and healthy), you should be able to find a job.
Also, don't apply to law school unless you can get a top tier (like, top 5) law school.
If you want a second look at your resume/cover letter, I'd be happy to do that.

Ano: Furthermore, several of these reforms have both positive supply side effects and negative demand side effects (e.g. eliminating the minimum wage), so they seem particularly unsuited to be targets during a big "downward nominal ridgitidy" unemployment episode.

Minimum wages are part of what makes downward rigidities worse. You want wages to be more flexible, particularly downward, right?

And Erin L, Kitty is right about the free pass right out of school. It's not looked at like other gaps in employment, and plus the cover story that you were just traveling tends to be a lot more plausible.

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Great post. Not read all the comments, but you could have also offered a hand across the divide, or a challenge at least, and wondered what policies private money creators would do in the face of a demand shock? George Selgin has shown how private monies did increase liquidity when necessary. They did get NGDP targeting in a way the Fed doesn't. The free market works for money too, and in fact state-sponsored money creators don't do a good job, as we see today. We shouldn't leave money to the state, it's too important.

Great post and discussion. One thing I don't think free market economists address is why people have a certain reservation wage for employment. My theory is people won't take wages below a level of sustenance + a little extra. So we have to examine what is driving the price level of sustenance, which is contributing to wage rigidity. If this theory holds up, we could look at free market policy solutions that lower the cost of housing + food + transport + healthcare as a way to reduce unemployment. If the basics of life cost less, people would work for less.

Ano: Furthermore, several of these reforms have both positive supply side effects and negative demand side effects (e.g. eliminating the minimum wage), so they seem particularly unsuited to be targets during a big "downward nominal ridgitidy" unemployment episode.

Minimum wages are part of what makes downward rigidities worse. You want wages to be more flexible, particularly downward, right?

Yes: this is the "positive supply side effects" that I'm referring to. But when you're in an economy that is away from labor market equilibrium, you have to think about your policies' effects on demand. If you eliminate the minimum wage, many currently-employed workers will see their incomes fall, so their spending will fall, which will reduce employment elsewhere in the economy. In a normal labor market, everything adjusts fairly quickly and it's no big deal for the unemployment rate. But in a period like now where there is widespread involuntary unemployment, the net effect of such a policy (accounting for both supply and demand-side effects) is indeterminate a priori. If you have a policy goal that looks something like "minimize person-years of involuntary unemployment over the next five years," then you probably want to focus on tax cuts, fed intervention, deficit spending (ideally moving future planned spending from the future to the present), and other more clearly helpful (and likely less politically troublesome) policies.

"If you eliminate the minimum wage, many currently-employed workers will see their incomes fall, so their spending will fall, which will reduce employment elsewhere in the economy."

That is one possible outcome. Another one is that the labor market is already away from equilibrium because of the minimum wage price control. The artificially higher price causes firms to allocate more resources towards capital instead of labor, and when the price control is removed, they shift back towards labor, increasing employment and aggregate demand.

There are other possibilities, but I would agree that the effect is not perfectly clear (plenty of debate still going on about Card-Krueger, after all). But if you think downward nominal rigidities are the source of the problem, note that tax cuts and deficit spending do nothing to reduce wage stickiness. These are both Keynesian AD-boosters -- but note that Keynesians were no more successful predicting the crisis and recession than any other macro school of thought. Furthermore, we have already had significant stimulus packages, and had Keynesians correctly predicted the magnitude of their effect (or non-effect), their argument now that it was insufficient would carry a lot more water.

The Fed is already boosting the money supply by every available means that it has (including very unconventional techniques such as QE and OT), which ought to be addressing wage stickiness by lowering real wages, but it doesn't seem to be. Besides this and removing the minimum wage, I'm not sure what other policies try to address wage stickiness.

Macroeconomics is too ideological (witness the Reinhart-Rogoff controversy) to have effective ideas on how to boost growth and reduce unemployment. Macro's just two camps, one with a government hammer and one with a market hammer, both of them more intent on using their hammer than actually solving economic problems (one reason the free market camp rarely talks about unemployment).

Price stickiness strikes me as mostly just a way for the New Keynesians to continue to argue for government intervention while using New Classical modeling techniques. After all, I don't think many New Keynesians advocate actually doing something about price stickiness even though removing the minimum wage should help.

Another one is that the labor market is already away from equilibrium because of the minimum wage price control. The artificially higher price causes firms to allocate more resources towards capital instead of labor, and when the price control is removed, they shift back towards labor, increasing employment and aggregate demand.

Think of the labor demand curve: If there's no change in price (wage) there's no change in employment (quantity). If there is a change in price (wages go down), then you have to think of the effects of lower wages on unemployment. If your goal is to reduce unemployment right now, you want to focus on things that don't reduce incomes.

perfectlyGoodInk:

But if you think downward nominal rigidities are the source of the problem, note that tax cuts and deficit spending do nothing to reduce wage stickiness.

As they say, you don't have to re-fill a flat tire through the nail hole. In this context: you don't have to cure unemployment only by making wages more flexible. The cause of involuntary unemployment is the interaction of downward rigidity and downward pressure on wages (caused by supply and demand shocks). You can help the situation in lots of ways. All I'm saying is that increasing wage flexibility through government policy helps much more in the long run than the short run, so let's use other, better-suited solutions to this particular problem first if we have a limited amount of political capital to spend on pushing for solutions.

Think of the labor demand curve: If there's no change in price (wage) there's no change in employment (quantity). If there is a change in price (wages go down), then you have to think of the effects of lower wages on unemployment. If your goal is to reduce unemployment right now, you want to focus on things that don't reduce incomes.

But a minimum wage does increase the price, and thus reduces quantity demanded for labor. If your goal is to not reduce incomes for anybody, realize that there are very few policy options with only winners and no losers (and the minimum wage itself was not one of them either). Indeed, note that expansionary monetary policy reduces everybody's real incomes, and it has huge distributional effects in terms of some actors receiving the new money before other actors.

you don't have to cure unemployment only by making wages more flexible. The cause of involuntary unemployment is the interaction of downward rigidity and downward pressure on wages (caused by supply and demand shocks). You can help the situation in lots of ways.

I agree, but you are the one identifying removal of the minimum wage as something that wouldn't work, even though it removes an obvious source of downward wage inflexibility (and you were the one identified such rigidities as being problematic). You've since argued that removing the minimum wage is undesirable for other reasons, and have not elaborated on why it would not reduce unemployment.

I think the economists used to say what should be done about mass unemployment in the 1930s but they were largely ignored.

What needs to be done is to cut the dole, but maybe bit by bit the longer a person is on it so he expects less and less money later on.

Currently, perversely [at least in the UK] what are called cheats, who are working as well as being on the dole, are followed up but though they may be cheating at least they are also working, so less fuss needs to be made about them.

Caplan here wants to pander to Political Correctness [PC]. That is the disease, not part of the treatment. It is one of the major causes of mass unemployment [indeed, it is second only to the dole; it does more damage than the regulations that Caplan wants to switch to looking at]. PC cant is immoral. It is what needs to be met head on and destroyed but Caplan feels it needs to be conformed to. It is the cause of suffering rather than a solace.

The disutility of labour is a major factor in mass unemployment. Work is usually not wanted except as a means. This should never be forgotten but it is one of the first things that PC cant wants us all to overlook. I sympathise with the unemployed in quite another way from the PCers. I agree with them that leisure for a low income is better than work on a high income. No job can beat the dole if we count the dole as morally all right.

The safety net point is correct. [A free market needs no safety net, as the shortage of labour is dire].

Location matters less, especially in a big city.

Education and training is a cause of unemployment, as it is a good excuse. So given the safety net, this excuse boosts mass unemployment. So "worker hubris" is a factor [hubris is a misnomer here, though, as few workers are ever proud of their skills].

A chap is out of work only as he has been priced out by PC/dole pay thus by the wages he will go back to work at. He needs to price himself into work at lower pay for the first month or so. To clear the market the pay of the starters needs to be very low but Caplan seems to want to cut the the pay of workers in jobs. If so, then that is almost insane. Why the hell should a worker in work take a wage cut? Maybe he might if it is suggested to him after a few from the dole have taken lower wages for a month, but if all go back to work the natural shortage of workers, that Caplan seems not to know of, despite being a Simon fan. Anyway, no worker is worthless. In fact, labour is in very short supply.

Sure, no one wants wages to fall but why should they whilst labour is in short supply? A real over supply of labour would look very different to the economy Keynes faced in the 1930s. And wages are not rigid today, nor were they in the 1930s: they are going up today and they were in the 1930s too. If there was an over supply of labour they would be falling and way more would be unemployed too.

I do not think much of Caplan's counters to his fellow free market economists. Indeed, I wonder why he thought any of them were even worth thinking about, let alone writing down. But I suppose my low opinion of Caplan is not going to change, even if he does like Simon and also children. He might even like dogs too. He is right that next to no one is completely useless, though.

What rigidities is Caplan on about? Wages are going up in real terms.

Unemployment is involuntary in that most of the unemployed think they have to be out of work. They have no idea why jobs are not out there since 1970 in the UK like they were in the 1960s, but the main reason why is because owing to PC mores they are asking that bit too much in pay to get a job; to clear the market. Like the late USSR, that is very uneconomic but it can go on indefinitely. It is ignorance rather than choice. But PC both creates and protects this ignorance and Caplan is with PC here. He seems to be proud of it too. There is a lot in this writing of his can be rightly called Caplan's cant.

Who says that unemployment is not a serious problem?

Many males on the dole, maybe most, have no children. Females on choosing the state rather than marriage usually only have one child as a result. They join the Underclass.

A job is mainly about wages or a pay-check for most workers.

Is there any sense of community in the mass urban society? I see no sign of it.

Happiness research is a PC paradigm.

The Overclass who "work" in the welfare state, like social workers, psychiatrists and the like, tend to propagate ideas that the market is inadequate, that people are unemployable, mentally ill and the like [fit for the Underclass] as well as recruiting people into the Underclass as unskilled, mentally ill and the like. The Overclass ironically usually have theology or sociology degrees such that many of them fear they can do nothing else. PC is in the business of demoralisation of not only the underclass but of the Overclass too. This fear gears them up to resist tax cuts or rolling back the state. They fear destitution! We might call it [with apologies to Erich Fromm] a lively fear of freedom.

I was under the impression that the free market was the grand solution to the two massive problems that Marxism also claimed to solve; that of war and that of mass unemployment.

Caplan sees that the all too many regulations do aid the dole. He still wants to deny that the dole itself is the chief feature or cause of mass unemployment. He calls this very obvious idea callous and cavalier. He prefers to blame the little gnats of state regulation rather than the massive elephant of the dole for the problem. He repeats the daft dogma of wage rigidity as if incantation can aid it but either ignores or fails to comprehend that real wages are rising, not because of rigidity or attitudes but because of increased output; even if this is mainly exports from China. He loves the state so he feels that the business of economics is to set state policy rather than to look at the truth. He says the state should "fight" unemployment. Does he think it needs to fight inflation too? What about high taxation? Should it fight war? Should it oppose proactive coercion? Why he imagines he favours the free market is not very clear.

There are no good Keynesians.

Tax cuts are always good. Dole cuts are way more to the point and additional output from the unemployed finally getting a job truly does boost actual demand. The reasons why all Keynesians are bad is that not even one of them have any idea of how to boost demand. Indeed, all their ideas ironically destroy demand instead.

That's terribly misinformed, to the point where I have to assume the author never knew somebody truly unemployed despite no lack of effort. The only thing that may forgive it is that it seems to be from a British perspective, which does have a very bloated welfare state.

But even so, I cannot believe all the assertions said without any data or reasoning whatsoever. What data is used is horribly misinterpreted.

"And wages are not rigid today, nor were they in the 1930s: they are going up today and they were in the 1930s too. If there was an over supply of labour they would be falling and way more would be unemployed too."

There is no data to back up that they wages would definitely be falling in an oversupply of labor. It's just said axiomatically, as if quoting a Bible verse.

As I argue above, a large number of free-market economists still go about nominal wage rigidity issue completely wrong. Managers have no real incentive to decrease wages, and the unemployed cannot start new firms. An equilibrium where no firms are cutting wages IS stable because of the difficulty of starting a new firm and the difficulty of a current firm cutting wages.

Once you put aside economic theology and think in terms of the incentives facing real-life firm managers, the reasons nominal wages are rigid are clear. Micro 101 says wages are instantaneously cut in response to less demand, but if you see falling demand, do you really instantaneously cut everybody's salary? No, everybody's salary stays fixed for awhile and if, because of those salaries, your prices are above market-clearing levels, it's far, far easier to lay off workers than cut wages.

"What rigidities is Caplan on about? Wages are going up in real terms."

Krugman wrote a post on this. When there is nominal wage rigidity, there are still some workers in some fields seeing wage increases. That means when NGDP goes down, you get some workers with wage increases, some with frozen wages and some who have become unemployed. If you look at only average wages, wages will always be going up because only the flat wages and the wage increases are averaged.

"He still wants to deny that the dole itself is the chief feature or cause of mass unemployment."

I could take all of these axiomatic assertions and tear apart each one, but I'll just focus on this. As Krugman, again, said, blaming the dole for unemployment is like blaming soup kitchens for the Great Depression.

Getting the causality backwards like this raises a simple question: if we had essentially the same dole for decades before 2008, why did unemployment soar in 2008 and not before? And why was the only other time unemployment soared after WWII in the early-80's, when NGDP growth also slowed dramatically?

The answer may be that there was some kind of mismatch or capital misallocation or some other nonsense Keynesian argument. But the housing market had crashed years before unemployment soared. And by now, housing construction is consistent with mid-2008 levels, but we have far higher unemployment than the summer of 2008 even though we're building the same number of houses.

David's argument is less an evidence and fact-based approach to understanding the causes of unemployment and more in the style of a Southern Baptist preacher. There is a morsel of truth to, say, higher minimum wages slightly increasing unemployment, but the argument crumbles at even the slightest look at the evidence.

You're ABSOLUTELY right.
Free Marketeers and Reps and conservatives need to take unemployment more seriously. In fact, it's likely to be even more important than school vouchers.

High unemployment is so bad that there should be more automatic stabilizers -- like automatic regulation waivers for new businesses for 5 (X?) years, or until unemployment is less than 6%.

Another direct choice is gov't employment policy:
whenever there is a budget deficit, the gov't should encourage a switch to 60% and 50% work (3 day or half time), along with proportional pay & benefits. Gov't can and should make it optional now.
Gov't should also announce that each quarter, the top paid 1% gov't bureaucrats not approved by the Senate would be switched to 60% or 50% (the employee choice), which should also make such folk no longer in the top 1%.
In addition, gov't should be hiring for 60% starting jobs, with some percentage of new jobs (10% of new jobs?) reserved for longest term unemployed. [50 people apply, who has been unemployed the longest? That's the one who gets the job.] It must be easier for the gov't to dismiss unacceptable performance, as well (drugs or being drunk, not showing up, etc.)

The Post Office, for instance, should be a good spot for many currently long-term unemployed to start getting back into the habit of going to work.

There should also be a voluntary National Service Corps, who hires everybody who needs a job, and pays them a minimum wage while both training them part time and having them work part time as temps for gov't, military, non-profit, and profit oriented local companies like restaurants that need dish washers or janitors.

The National Service Corps training should include home repair, cooking, shopping, independent living life skills as well as possible apprenticeships as plumbers, electricians, car repair, child care, nursing care. The model would be like Manpower or other temp agencies. The worker gets paid by the NSC for work done on behalf of another paying org; the paying org pays the NSC. When the payment to the NSC is greater than what the NSC pays the worker, the worker is told about this and is encouraged to work directly for the org, if the org is interested in hiring a non-temp.

I never meant to imply that lowering the minimum wage definitely wouldn't "work." But it might not work very well (or even at all) in the short run to lower the level of involuntary unemployment since it would act simultaneously in opposite directions (lowering structural unemployment and raising cyclical unemployment at a time when the Fed doesn't think it can do anything about it--the key reason why now is one of the rare times when I think it's unclear what the net effect would be).

To be honest, this is a reform that most of its advocates always want, regardless of the level of unemployment, so this seems like opportunism. Given that there are several other options that seem much more likely to make a big difference, focusing on slaying this big liberal sacred cow seems less like "let's do something about the grave evil of unemployment" and more like "let's use the fact that liberals care about unemployment to extract a structural reform that we've always wanted." (Liberals who are proposing permanent spending increases on things they want like education and energy projects are doing the same thing from the other side.)

I would be more interested in addressing unemployment with minimum wage policy if we didn't have so many other, better tools available that don't require that we re-litigate big issues that are so politically troublesome. I think that greater income redistribution would lower unemployment in a rare situation like now (depressed economy, Fed thinks it has little traction), but I'm not arguing for it for the same reasons I don't want to upset our current minimum wage and union rules: lowering unemployment quickly is too important to risk start years-long fights over political sacred cows. Let's do big, temporary stuff that works until the recession is over, then resume our long-standing fights about the size of government and regulation of the labor market.

Instead of downplaying the grave evil of unemployment, we free-market economists should urge governments to redouble their efforts to fight it. How can we do so and remain free-market economists? First and foremost, by emphasizing the obvious: Every government imposes a vast array of employment-destroying regulations. Minimum wages. Licensing laws. Pro-union laws. Mandated benefits - especially mandated health insurance. Anyone who appreciates the grave evil of unemployment should bitterly oppose these regulations - and vigorously reject the cavalier, callous view that a heavy-duty safety net is a good substitute for a job. Government regulation is hardly the sole cause of nominal wage rigidity, but it definitely makes a bad situation worse.

Bryan, I think you underestimate the extent to which free market economists are making every one of these points. The folks I read on both the Cato side and Austrian side are all rather fond of these issues. As far as I can tell, they are constantly trying to convince people of how government policy increases unemployment on several fronts.

I really don’t understand the amount of Kudos this article is receiving. Perhaps, Bryan’s article was written in reaction to someone in particular and I am missing the context that this is in response to. But Bryan’s first paragraph is totally perplexing to me. He says that free market economists rarely propose X to solve unemployment? And this is because free market economic feel X won’t work? But later Bryan tells what some of the Xs are that those free market economists are proposing: reducing regulation; ending minimum wage, pro-union, and licensing laws; lowering taxes on employers. I don’t know what free market economists Bryan listens to, but the ones I hear talk about these Xs all of the time and not just when unemployment is high. And they are not shy to recommend those Xs due to the fact that they feel these Xs won’t work.

Next, Bryan writes that free market economists critics say we oppose X because we are callous. But the free market economists solution to unemployment is not the same X that the critics propose. The critics are proposing Y to solve unemployment: increase the eligibility and benefit amount of the food stamp program, unemployment insurance, and of medical coverage. So, then, how is it again that these critics right? Is it that free market economists are not proposing Y instead of X or is it that free market economists don’t think X will work?

I must admit later in the article I got a good laugh out Bryan’s “good Keynesians” who says, “Asking government to stop nominal wage rigidities is a fine start.” Where are all of these good Keynesians? You could probably fit them all in to a small closet and still have room for all of the free market economists who rarely propose X to solve unemployment.

Finally, nominal GDP has been growing at around 4% a year since the 4th quarter of 2009. Bryan proposes a nominal GDP target like a constant growth of M2 or a frozen monetary base. Is 4% not enough? Perhaps a constant nominal GDP growth of 7% or 10% would be more to his liking. And why would 7% or 10% be superior to 4% or 0%?

"I would be more interested in addressing unemployment with minimum wage policy if we didn't have so many other, better tools available"

The two best tools macro suggests are monetary policy and fiscal policy. Both have been tried in spades. I'm no austerity advocate, so I don't suggest tightening in either category. However, mainstream Neoclassical-Keynesian theory suggests unemployment should have fallen by now.

Macroeconomic policy discussions keep reminding me, as a Minnesotan just making it through the winter, of a car stuck in the snow. For the uninitiated, when your car is truly stuck in a snowbank, gunning the engine doesn’t help. Your wheels spin. Maybe a little snow flies. Maybe the car shivers in place. But you don't have traction. Pumping the gas pedal up and down doesn't help. Twisting the steering wheel doesn't help. Putting on your emergency blinkers is recommended--but it doesn't get you out of the snowbank, either. Time to find a shovel, or dig that bag of sand or cat litter out of your trunk to spread under the wheels, or look for friendly passers-by to give you a push.

During the recession of 2007-2009 and since, U.S. policymakers have stomped hard on macroeconomic gas pedals. But although the unemployment rate has come down from its peak of 10% in October 2009, it remains near 8% --and the Congressional Budget Office is predicting sustained but still-slow growth through 2013. As a result, those who recommended stomping on the fiscal and monetary macroeconomic pedals are on the defensive.
...
Snowbank macroeconomics suggests that after a financial crisis and a recession is over, and when you have tried gunning the engine for a few years, you need to think about alternatives.

To be sure, I personally don't think the minimum wage plays a big role in unemployment we're seeing now (I've commented on this blog before on Card-Krueger).And I agree with you that it might not work and is ideologically motivated. However, given the state of modern macro, that's true of all policy suggestions.

I happen to work in one of the few industries where nominal wages are very "slippery": trading. For traders (and perhaps salespeople and other commission workers), bonuses are usually larger than salaries. As long as they understand that their bonus depends on their profits and their employer has fairly transparent accounting, people accept wide fluctuations in income.

What if almost every employee's wage varied substantially with his employer's net profit? Would that broadly mitigate the unemployment problem? (I'm ignoring, for the moment, the practical difficulties of making that happen.)

Below is a slightly revised reply to the criticism that Matt Waters was kind enough to put to a reply to the above by Bryan Caplan that my friend Lee Weeks posted in to the LA list.

>>>>>>>>>>>>>>>

Thanks for courting this criticism, Lee. There cannot be too much of it. It is pointless not seeking out errors to eliminate, if only we can spot them, and aid in that Popperian duty is always welcome from others; regardless of their outlook.

It is true that I do not know much about the USA. So Matt Waters gets that right. In the UK, once unemployment emerged in the 1930s, it took the 1939 war to clear it. It arose again in 1970 and looks to go on indefinitely.

It is not true that there was no reasoning in what I wrote. That would be hard to achieve, as to assume is to reason. The basic law of logic is the law of assumptions that holds that any assumption at all is logically fine. Invalidity may emerge with the second assumption.

Real wages have been basically going up since about 1750. This is mainly due to the dire shortage of labour. This is clearer in the urban centres. Villages may not be able to afford to pay for work that needs doing in them.

Data cannot back any thesis up. Any observation amounts to an assumption, as does any valid argument thus a sound argument [i.e. valid and true argument] cannot possibly back up any thesis. For a mere assumption is not epistemological support. Indeed, there can be no such support. The epistemological problem is dire. We have no idea of what science will hold in 500 years time but it is not likely that they will have all the answers by then.

The sceptics knew all that 2500 years ago. Philosophers have often attempted to refute them ever since but they have failed, by miles, every time in the last 2500 years and they are not likely to do better in the next 2500 years either. The quest of attempted justification looks to be futile.

The value of wages relates to output, to what wages can buy. That has, basically, been increasing since about 1750.

The colleges have attempted to hold, with the aid of statistics, that wages have not increased since about 1970. But the things a modern wage can buy now includes many wares like DVDs, better personal computers and many other things not to be had at all in 1970. Money is a mere means of exchange, not a measure of income.

I explicitly rejected the idea that wages needed to fall for those in work last time. The idea that the unemployed cannot set up new firms is false, on the face of it.

Political Correctness [PC] that we should all have equal pay for equal work is a factor on the maintenance of mass unemployment, as the need for the unemployed is to price themselves back into work, but bit by bit, not to take very low pay for any more than a week, if for that long. Minimal wage laws are even a greater menace than PC in this temporary need that the unemployed have to price themselves into work.

What is stable that is germane to the problem is that the starting wage for the unemployed is way too high to clear the market. Clearing the market is the greatest part of the problem. If the supermarkets did not drastically cut the price of bread daily then they would be throwing away a lot more bread. The dole is the main cause of this high clearing price but PC, minimum wage laws and other items of state regulation helps to both cause and then maintain mass unemployment.

The pay of workers in work is not directly germane, apart from the very important fact that it is PC to start at that wage. Returning workers might lower wages, in some firms, by replacing those on the top wage but that should not occur in many firms.

Anyway, once the market is cleared, wages can then be bid up, owing to the perennial shortage of labour being clearer when there is no state maintained mass unemployment.

I do not think that average wages is germane to the problem of mass unemployment. Nor do I think that it matters to this problem whether wages are going up or remaining the same but I not note that they are going up, owing to what they can today buy, decade by decade if never year by year, and I did credit China with that phenomenon in the last few decades last time. But those were comments were made in passing.

Matt Waters says that he feels that he could refute all my assumptions [he calls them axioms, but they, too, are also mere conjectures or assumptions]. I doubt it. But he is welcome to try. He might refute one or two. Or he might fail completely, as he seems to have done this time.

I see no merit whatsoever in anything I have ever heard Krugman say. I have not yet read anything that he has written but I expect it to be sheer bosh. The analogy of the dole to soup kitchens seems to have no merit whatsoever. Soup Kitchens do not cause tramps, but merely aids them but the dole does case mass unemployment.

But some on the dole may go as tramps if there was no dole.

However, what ever caused the Great Depression is something else entirely. But the fact that Matt Waters does not accept that fact is shown by his question of why people suddenly used the dole in 2008 but not before. If there was no dole, it could not have been used in 2008.

My topic was unemployment, not the trade or credit cycle, of which I have no explanation to offer at this time. I did hold to explanations of it in the past, one by Marx, another one, later, by Mises, that now both seem to be inadequate to me.

People have often asked me that as I was so very confident in the past about the trade cycle but then later saw fit to abandon a theory on it on more than one occasion, how do I know I will not repeat it with the ideas I feel confident of on anything, including mass unemployment, today. The answer is that I do not know. Like Matt Waters is today, I once even thought that data could back up a thesis, of course. Most people start out thinking that.

I am no expert. Instead I am a philosopher [i.e. one who claims to love wisdom rather than one who claims to have it]. Philosophers are often a jack of all subjects but master of none. But even experts, or specialists, only can have conjectural knowledge. There is exactly no chance of an evident or fact based thesis but theories can be true i.e. they can cite external facts but there will be no facts backing them up, or at the basis of any theory. Evidence is best used in attempted refutation. It can never support any idea. Hence the Popperian duty to try to refute our own ideas, a duty we can get aid from others in attempting to do by debate. The harder the criticism we can muster of any of our ideas, the better.

Matt Waters clearly fails to present any refuting evidence that I can see in this post. Whether he has some, I have no idea, but I guess not. But he did have a go, I suppose. So I need to thank him for that.

I've typically found that anybody who says things like, "Data cannot back any thesis up," or "I see no merit whatsoever in anything I have ever heard [X person] say. I have not yet read anything that he has written but I expect it to be sheer bosh." or "The idea... is false, on the face of it." is probably not someone worth engaging in dialog because they are admitting up front that they have a closed mind and aren't going to listen to you or anything that contradicts their world-view.

I think the strongest argument against the Labor Theory of Value by far was "The Great Contradiction," and it was data driven. The testable hypothesis was that if profits really constituted exploitation of labor, then profits in labor-intensive industries should be higher than capital intensive industries. However, when you measure profits, they are level across all industries (as you would expect if profits and losses created incentives for firm entry and exit).

To reject that data can support or reject hypotheses is to fully become the caricature that Colbert parodied when he said, "No matter how much the results change, the hypothesis must remain the same." Broadcasting to others that you have this kind of mindset is probably not a productive route towards gaining wider acceptance for your ideas.

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